Legal Blogs

Directors’ and Officers’ Fiduciary Duties When Corporation Insolvent

When a company becomes insolvent, there are changes in the duties owed by the company’s officers and directors. Specifically, insolvency can trigger a fiduciary duty from the company to its creditors. This is called the Trust Fund Doctrine, and corporate officers and directors should be aware of its implications.

What are Fiduciary Duties?

B&C Named To “Best Law Firms” in US

Officers and directors of a corporation owe fiduciary duties to the corporation including a duty of care, and a duty of loyalty. The duty of care requires fiduciaries to act in an informed manner. It requires fiduciaries to review all relevant information reasonably available to them before making company decisions. The duty of loyalty requires fiduciaries to act in a disinterested manner, in good faith, and to avoid self-dealing or actions that would benefit themselves at the corporation’s expense.

The Business Judgment Rule

Decisions of corporate fiduciaries are examined under what is known as the Business Judgment Rule. The Business Judgment Rule gives corporate officers and directors broad discretion in making decisions. Courts will not review or second guess an officer or director’s decisions or hold them liable for such decisions so long as they are: (1) disinterested and independent; (2) acting in good faith; and (3) reasonably diligent in learning the facts.

The Trust Fund Doctrine

When a corporation becomes insolvent, the traditional fiduciary duties and business judgement rule still apply. However, insolvency can trigger additional duties from the corporation to its creditors.

Under the Trust Fund Doctrine, once a corporation becomes insolvent, all of its assets immediately become a trust fund for all of its creditors. Under that doctrine, an officer or director can breach a fiduciary duty owed to creditors of the corporation when they divert corporate assets for the benefit of insiders or preferred creditors. The scope of the trust fund doctrine is limited to cases where directors or officers have diverted, dissipated, or unduly risked an insolvent corporations assets.

When is a Corporation Insolvent?

When a corporation is insolvent, or in the “zone of insolvency” is a fuzzy concept in California. One area that provides some guidance is California’s Corporations Code. California Corporations Code section 501 identifies that a corporation is insolvent when it would “likely be unable to meet its liabilities as they mature.”

Getting Legal Help

Brown & Charbonneau, LLP represents individuals as well as large and small companies in cases involving all forms of business disputes. If you are involved in a business dispute, or would like to learn about your rights and how to protect them, we can provide you with the information you need. Contact us or call today at 714-505-3000 to schedule a consultation and learn more about how we can help you.

For the latest legal news, follow Brown & Charbonneau, LLP on Twitter and join us on FacebookInstagram, and LinkedIn.

Brown & Charbonneau, LLP is a top-rated business litigation, corporate, real estate and family law firm in Irvine, California. We are honored to be named by Best’s Lawyers® as one of the Top Law Firms in the US, including the specialty area of commercial litigation. As an AV-rated law firm, we are proud of our 10.0 Superb Client Rating from Avvo. Our top-reviewed Southern California attorneys have also earned specializations from the State Bar of California, as Certified Trial Specialists, and are included amongst the elite attorneys to be named Super Lawyers®.

Should you have any other issues involving any of the below areas of practice, please feel free to contact us.

Our website is full of valuable information and resources.  Our goal is to provide as much information as possible to assist all our clients in making fully informed decisions.  Just click any area of interest.

Brown & Charbonneau, LLP publications should not be construed as legal advice on any specific facts or circumstances. The contents are intended for general information purposes only and may not be quoted or referred to in any other publication or proceeding without the prior written consent of the Firm, to be given or withheld at our discretion. To request reprint permission for any of our publications, please contact us. The mailing of this publication is not intended to create, and receipt of it does not constitute, an attorney-client relationship. The views set forth herein are the personal views of the authors and do not necessarily reflect those of the Firm.